Red Flags

The following is a list of the post titles by author under this topic. Scroll further down this page to find the actual blog post by your selected author. Author’s posts appear in reverse alphabetical order. For example, following this list, Jason Mendelson’s post appears towards the beginning of the blog page, and Jeffrey Bussgang’s post appears towards the end of the blog page.

“In general, there are only two things that investors really care about when making investments: returns and control. Returns refer to the end-of-the-day financial return the investor will get and the terms that have direct impact on these economics. Control refers to mechanisms that allow the investors to either affirmatively exercise control over the business or to veto certain decisions the company can make.” Mendelson says that if an investor resists terms that don’t impact returns or control, it may be a negotiating tactic, he may not be savvy or could just be a jackass. Jason Mendelson, Do More Faster by David Cohen & Brad Feld copyrt 2011, Get Help with your Term Sheet pg 238

Josh Kopelman Partner First Round Capital and former entrepreneur

Kopelman advises that entrepreneurs who “[] try to maximize valuation [] in many cases [] might be shortsighted” because high valuations can limit exit opportunities. “[] too many founders are not aware that they are shutting off the majority of exits -- and therefore increasing risks -- when they accept a high valuation.” “[] the “unwritten term in the term sheet” [means] few VC’s will willingly part with a “winning company” (i.e., a company that is executing/performing well) for less than a 10x return.” Thus, a VC could block an exit that could have been a fabulous payout for entrepreneurs and angels. Josh Kopelman The Unintentional Moonshot, July 10, 2007, http://redeye.firstround.com/2007/07/the-unintention.html; When the music stops... March 10, 2006; http://redeye.firstround.com/2006/03/as_a_little_kid.html

Rob Hayes Partner First Round Capital

Hayes discusses red flags, things that would make him not want to invest in a founder or entrepreneur.

Red flag: If he doesn’t have the best possible people as part of the initial team pre-funding. “When someone comes to [him] who has already surrounded [himself] with people [] who have quit good jobs [to come and work with him] because they’re so passionate about [] working with this person but also what they’re working on, [] that’s a good indicator.”

Red flag: “[] [The founder] is so enamored with [the] product [to the exclusion of addressing other important business elements.] There have been very few products that have been so good that the world just beat a path to their door [like Google or Facebook]. [] If someone is so enamored with their product that they can’t think through how things might change or they’re focused on one particular slice of the market and they only know that piece of the market and not a much bigger market [], I would be concerned about [that].”

When entrepreneurs raise seed money (under $1 million) from big VC firms’ seed programs, potential investors typically ask ““is the big venture firm following on [with financing]?”” If not, entrepreneurs will likely have difficulty raising more money because potential investors will question why they should invest if the big VC firm doesn’t. “[When entrepreneurs take big VC’s seed money], [] effectively [they’re] giving [the VC a non-contractual] option on the next round, [acting as a VC lead generator.] And, somewhat counterintuitively, the more well respected the VC is, the stronger the negative signal will be when they don’t follow on.

[When] the VC does [] follow on, [the company will likely] get a lower valuation than [had it] taken money from other sources” because new investors often offer to co-invest at a lower valuation, keeping an artificially low valuation or “hesitate to [bid] for fear of being used as [leverage to get a higher priced deal]. [] [Having] a big VC [] as a seed investor [] prevent[s] [the entrepreneur] from getting a competitive dynamic going that [generates] a true market valuation.

David Cohen Founder and CEO TechStars, angel investor and former entrepreneur

Cohen discussed his filters for excluding an entrepreneur from a potential investment. “[][Cohen] want[s] to know [if] you’re dishonest or you’re stupid. These are great shortcuts for [him] [because] [he] can just be done. [] [He] value[s] integrity very highly. [] It happens regularly [that he applies these filters]”. David Cohen, This Week in Startups, TWiST #323, published Jan 22, 2013 @ 34-35 min. into interview with Jason Calacanis, TWIST host; http://www.youtube.com/watch?feature=player_embedded&v=KuWLGAbyEaw

Jeffrey Bussgang venture capitalist and General Partner Flybridge Capital Partners and former entrepreneur

“The term sheet is essentially a preliminary, nonbinding document between the entrepreneur and the VC [summarizing key financing terms]. Some VCs issue a term sheet early [] to lock up the deal – and keep the entrepreneur from going elsewhere []. Entrepreneurs need to be wary of these situations and not be afraid to push the VC to define more clearly whether the term sheet represents a real commitment or merely a discussion document. [] Most VCs issue a term sheet [] only when they have made a final decision []. [] [Be wary of] the “exploding term sheet” [expiring within 24 hours, which is a red flag]. [] Neither side should pressure the other [].” Jeffrey Bussgang, Mastering the VC Game –A VC Insider Reveals How to get from Start-up to IPO on your terms (book), copyright 2010, pg 127-128